What is Guarantee?
According to the provisions of Section 126 of the Indian Contract Act, 1872, a Contract of Guarantee is a type of contract where one party promises the other party to perform the promise or to discharge the liability which is incurred by the third party due to his default. Contract of Guarantee can be either an Oral Contract or a Written Contract.
Under the Contract of Guarantee, there are three parties involved:
- The person who promises the guarantee is known as Surety.
- The one in whose respect, the guarantee by surety is given is known as Principal Debtor.
- The person to whom the guarantee by surety is given is called a Creditor.
Under the Contract of Guarantee, there exists three different contracts, Primary contract between the Principal Debtor and Creditor, Surety and Creditor, and Surety and Principal Debtor, as the Surety has the right to claim all the rightful amount he has paid to the Creditor. This is an Implied contract between the Surety and the Principal Debtor, even if the Creditor doesn’t sue the Principal Debtor or does not demand any amount from the Principal Debtor.
For Example, Anil obtains a loan from XYZ bank, and Brijesh promises the bank that if Anil fails to repay the loan amount, he will pay off the amount to the bank. This is a Contract of Guarantee. In any case, where Anil fails to pay off the loan amount, the bank can recover the amount from Brijesh and Brijesh will be liable to pay off the dues. Also, Brijesh will have the right to claim the amount he has paid to the bank from Anil. Here in this case, Anil is the Principal Debtor, and in his respect, Brijesh has given a guarantee to the bank. XYZ bank is the Creditor, Brijesh has given XYZ bank the guarantee, and the bank can recover the loan amount in case of default. Brijesh is the Surety, as he has given the guarantee to the bank in respect of Anil.
Difference between Contract of Indemnity and Guarantee
When two parties formally come together for business and enter into a contract, the main intention for both parties is to get protection from any sort of loss or damage. Careful drafting of a contract and managing proper financial arrangements can help in achieving the goal of protection for both parties. The Contract of Indemnity and Contract of Guarantee are contracts that are related to such special circumstances, where they establish the duties and rights for the parties in a contract in the event of any uncertainty. A Contract of Guarantee is an agreement to fulfill an agreed promise. Here three parties are involved, and the Contract of Indemnity establishes that one party will pay the other in case of any losses or case of an unprecedent event. Indian Contract Act, 1872 contains the provision related to the Contract of Indemnity and Guarantee under Sections 124 to 147.